Cleanest Dirty Shirt

In 1969, Kris Kristofferson wrote “Sunday Morning Coming Down” and was famously covered by Johnny Cash in 1970.  The song conveys a vivid picture of the protagonist’s Sunday morning experience, where even the act of choosing a shirt to wear is framed within the context of his life’s struggles and decisions.  The line “the cleanest dirty shirt” is part of this narrative, illustrating a choice among imperfect options, which resonates with the song’s theme of personal struggle, loneliness and the aftermath of a hard-lived night.

Today, investors worldwide are experiencing their own ‘Sunday Morning Coming Down’ moment as they struggle to determine the safest currency for their investments. Despite the United States’ massive debt and escalating interest expenses, the US Dollar continues to exhibit remarkable resilience, often described as the ‘world’s cleanest dirty shirt.’ This situation has prompted questions about how long the dollar can maintain its dominant status. However, when investors look globally, they find few viable alternatives:

• The yen has largely depreciated due to a variety of economic factors in Japan
• The euro has struggled to gain ground since 2022 presumably due to war and debt
• No one trusts the yuan (I will explore China in a later blog post) 
• India is in the midst of transitioning from an emerging economy to an advanced economy 

While investors have found a safe haven in the US dollar, there are significant consequences to consider. A major immediate concern is that there’s typically a lag of about two and a half years before changes in the US dollar exchange rate are reflected in trade flows. Due to this lag, it is highly probable that the US trade deficit will see a significant increase within the next six months, primarily due to the sharp appreciation of the dollar in 2022. Regardless of who wins the upcoming election for the White House, the new administration will likely face embarrassment and the challenge of managing these economic repercussions.

Moreover, both candidates have pledged to revive American manufacturing, yet achieving this goal with a strong dollar presents a significant challenge. Donald Trump has promised to usher in ‘an American manufacturing renaissance,’ while Kamala Harris has committed to ‘jumpstarting a new era in American industry.’ It’s intriguing to note that both political parties find common ground on the necessity to reindustrialize. This emphasis on industrial revival is largely driven by national security concerns, given that many military supply chains are currently overseas and thus vulnerable. Moreover, in the wake of globalization, the U.S. economy has predominantly transitioned into a service-based model. To reverse this trend, it would necessitate a devaluation of the dollar.  Below, I outline several strategies that either candidate might consider attempting to reduce the dollar’s value: 

1. Federal Reserve & interest rates: The President could attempt to influence the Federal Reserve’s monetary policy through back channels, public statements, or other means, urging them to ease policy. However, this would be challenging, as Federal Reserve Chairman Jerome Powell has consistently stated that policy adjustments are based on the Fed’s mandates. Another option for the President could be replacing Powell when his term ends in May 2026, with someone more politically aligned. However, the likelihood of this occurring seems low for several reasons. The new Fed Chair would require Senate confirmation, and currently, there’s greater political emphasis on controlling inflation than on weakening the dollar, as indicated by political polling. Moreover, there’s a risk that attempting to weaken the dollar might undermine global confidence in U.S. currency management, potentially stripping the U.S. dollar of its status as ‘the world’s cleanest dirty shirt..
2. Capital Controls: Another strategy to weaken the dollar could involve limiting, discouraging, or restricting capital inflows. However, this approach is unlikely to be pursued for straightforward reasons: the U.S. government depends on foreign capital to finance its debt. Furthermore, a significant amount of capital from overseas is invested in the U.S. stock market. For these reasons, it’s probable that the President would steer clear of this approach.
3. Intervention in the foreign exchange market:  It’s noteworthy that the President has the authority to direct the Treasury Department to intervene directly in currency markets. This can be achieved through the Exchange Stabilization Fund, which is designed for such foreign exchange market interventions. Adopting this strategy would signal the U.S.’s intent to lower the dollar’s value and could be effective if market participants believe the administration is both serious and credible in its efforts. However, it’s important to mention that the impact might be limited; sustained intervention is typically required to significantly influence currency markets, and the resources of the Exchange Stabilization Fund are finite.
4. Foreign government intervention: Although the Treasury could intervene in the currency markets, its impact would likely remain negligible without continuous support, as previously noted. Enlisting the participation of other allies would amplify the effect, but securing unanimous cooperation is highly improbable. For any significant impact, the U.S. would require the involvement of the entire G7, as well as China. However, it’s clear that China would have little interest in aiding the U.S. in reviving its manufacturing sector, which could potentially compete with its own. Therefore, achieving this level of international cooperation would be challenging, to say the least.

Lastly, the US dollar might decline independently. If inflation continues to decrease, this could permit the Federal Reserve to engage in more aggressive rate cuts, thus reducing the dollar’s value. Moreover, it’s conceivable that US economic growth might lag while other economies outperform expectations. The earlier mentioned persistent or growing trade deficit could also contribute to a weaker dollar if investors shift their investments to more attractive, stable currencies.

Nevertheless, the options available to the next President for intentionally devaluing the dollar to support manufacturing recovery are limited, likely yielding only short-term effects at best. The most feasible approach might involve coordinated intervention by foreign governments, but without China’s participation, such efforts are likely to fall short of their goals. Investors should remain skeptical about the US government’s ability to effectively lower the dollar’s value while simultaneously implementing macroeconomic policies that typically bolster the dollar.